When Apple Inc., disclosed that it has not paid any corporate income tax over the past 4 years, it got the government’s attention. Hailed before the Senate, Apple is confident in their tax position because, it is legal.
Essentially, Apple games the system by aggressively manipulating the Internal Revenue Code and tax treaties to save billions of dollars in taxes. 9 Billion and counting to date. The Apple plan may work for any company whose assets can be sold anywhere in the world because the nature of the business allows for forming the necessary subsidiaries in tax havens (countries that have no income tax) while still maintaining the ability to conduct computer-generated sales. For example: if Apple sells an ITune or IPad app in the United States, the sale produces federally taxable gross revenue. However, if the same ITune or app is sold through an offshore haven, no federal revenue is generated for US tax purposes. Therefore, Apple is not taxed on the income generated from the sale of the ITune or app until it is repatriated to the US, if ever.
Apple takes advantage of the laws of Ireland. Ireland has recently enacted numerous laws to attract foreign investors. Apple uses a technique known as the “Irish-Dutch Sandwich.” For tax planning reasons it is known as a sandwich because it involves more than one different countries, much like Hungary, Lichtenstein, and Switzerland are used to practically eliminate capital gains taxes that foreign investors would normally be paid on capital gains to the US for gains in real property or securities (See our article, U.S. Tax Effects of Treaties in the Context of Foreign Investment in the U.S.).
Here, Apple successfully utilizes the “Irish-Dutch Sandwich”:
Intellectual property is transferred from the U.S. corporation to a subsidiary established in Ireland. The subsidiary is managed by individuals residing in a Caribbean tax haven country such as the Cayman Islands, Nevis, Bermuda, or the British Virgin Islands. A sale is generated in Ireland. However, the gross proceeds of the sale are quickly transferred to an offshore tax haven in order to avoid taxation in Ireland. Under Irish law, the company established in that jurisdiction is not taxed due to the fact that the manager resides outside of that jurisdiction. (Typically, a corporation is a tax resident of the country where it is incorporated. This is not the case under Irish law. Under Irish law, a corporation is a tax resident where its manager resides.) Therefore, an entity can incorporate and conduct business in Ireland. However, if its management is located in a tax haven jurisdiction such as the ones discussed above, the corporation is considered incorporated in the tax haven jurisdiction, not Ireland.
However, by virtue of the corporation maintaining its domicile in Ireland, it can utilize tax friendly agreements amongst European Union members. For instance, Apple next takes the sales revenues which were generated in Ireland, transferred to a non-Irish country, and finally diverted to the Netherlands. The Netherlands charges only a small tax on royalty income from the sale of ITunes or apps and since it is within the European Union, there is no tax withholding or tax between Ireland and it. It should be noted that rock groups such as the Rolling Stones and U2 have transferred sales from worldwide record sales to the Netherlands to avoid paying taxes in their home countries.
In conclusion, by establishing a multinational chain of subsidiaries, Apple has successfully avoided paying US taxes for years, even though it is headquartered in the US.
As the result of favorable world-wide income tax treaties, foreign investors in the U.S. may be able to arrange their business transactions in the U.S. without realizing any U.S. tax liability. Further, corporations of really any size can potentially utilize this system because it is relatively inexpensive. Particular attention must be paid to both the tax treaties of different countries and also the additional tax savings in planning the use of multiple tax treaties and multiple entities to legally avoid the taxes that would otherwise be paid.
To better understand this intricate area of tax law, consult with a tax attorney at Moskowitz, LLP by calling (415) 394-7200 or via our Tax Law Firm’s website.
Moskowitz LLP, A Tax Law Firm, Disclaimer: Because of the generality of this blog post, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations. Prior results do not guarantee a similar outcome. Furthermore, in accordance with Treasury Regulation Circular 230, we inform you that any tax advice contained in this communication was not intended or written to be used, and cannot be used, for the purposes of (i) avoiding tax related penalties under the Internal Revenue Code, or (ii.) promoting, marketing, or recommending to another party any tax related matter addressed herein.